Howard Marks

@howardmarks

How I Built a Company With a $130M Valuation

A snapshot of the team, taken April 20, 2018

As countless other stories go, the beginning of StartEngine was a simple one. Today, StartEngine is 33 employees. We have helped 160 companies raise capital from our pool of 150,000+ investors. We have raised $5M on our own platform at a $60M valuation and just announced a $10M ICO, which is in test the waters at a $130M valuation at $10 per share.

But before all of this, StartEngine began as a singular idea: I wanted to invest in 60 companies.

Setting the goal

After the second video game company I founded, Acclaim Games, was acquired by Walt Disney (Playdom was the original buyer), I wanted to take a break from the entrepreneurial side of the business and become an investor. Keep in mind that I co-founded Activision in 1991, and it eventually became a $50B market cap powerhouse. I had been in the entrepreneurial business for nearly three decades when Acclaim was acquired in 2010, and I had achieved a level of success that I was proud of. I wanted to do something different.

So I decided to try my hand at investing and set a personal goal to invest in 60 companies. Since I was living in LA at the time, I thought why not invest here. Sure, it didn’t have the cachet of Silicon Valley, but LA had its share of startups, and all startups need funding.

As I began the process of finding ideas and entrepreneurs to support, I realized that I needed more structure — how do I find these companies in the first place? What is the deal structure for my investment? Do I write a check and disappear?

I was a big fan of Y Combinator and realized that the accelerator model was effective for startup entrepreneurs. It made a lot of sense for what I was trying to do. And so StartEngine the accelerator was born.

StartEngine the accelerator

The first rendition of the StartEngine logo

I partnered with Paul Kessler, a savvy financier with an extensive history of investment, in late 2011 to form StartEngine, and the two of us interviewed startups for our accelerator program. There were no established accelerators in LA (though a few other companies had the same idea and launched around the same time as us), so we had a lot of applicants.

We decided to do cohorts of startups, but rather than use Y Combinator’s six month model, I decided to strip each cohort into 90 day segments. It was enough time to mentor and help companies prepare for a demo day at the end of the 90 day period, in which they would present their business in front of investors and hopefully attract additional investments.

We offered $20,000 for a 10% stake in the company, and we had a lot of interest. We accepted around 5% of applicants. Our first cohort was 15 companies, then 20, and 20 more.

The first companies that pitched at a StartEngine Demo Day, including hypemarks, now known as Tint, which is doing great

Of the 60 companies, 50 went away quickly. 10 or so remain today, some of whom are very successful. Among those are TruBrain, a nootropic company, Tint (formerly hypemarks), a content curation and social media touchup tool, Enplug, a digital signage software, and Carbon 38, an active-brand clothing company.

Others, such as The Style Club, went on to get funding from Mark Cuban on Shark Tank, yet in fact were bad actors. They participated in the accelerator only to pretend it never happened three years later, so as to strip StartEngine of its equity interest. I ended up writing about it on LinkedIn with an article that now has nearly 300,000 views.

The narrow flow of money

A screenshot of an early version of the accelerator website

What I learned over the course of the accelerator was that finding money was hard. Many of the companies in our accelerator had to find rent-free places to live, didn’t pay their employees, and were finding ways to make ends meet until the company took off and started generating revenue.

This issue was compounded by the fact that I was often investing in women and minority founders. I saw the bias of venture capital first hand because most of the funding is directed towards “white males from Stanford” as an elitist investment theme. For numerical context, 3% of VC funding goes to female entrepreneurs. By recruiting exceptional female talent into the StartEngine accelerator, I quickly grew frustrated when the companies I invested in couldn’t get more funding.

It was a problem that often looked binary. Regardless of the quality of the business, the determining factor of whether a company could raise more capital was whether the founders could sell themselves to VCs. If they could, they would raise, and if they couldn’t, they wouldn’t. After 10 or 20 meetings it was clear whether they would raise capital and continue to pursue their dreams or fold.

Raising capital became a numbers game. Pitch 100 investors and land 5 to 10. But where do you find those investors? Companies in the accelerator would go to events and try to meet potential investors, but it was tough going. Many gave up and were discouraged by the system.

The glimmers of an idea

This issue gave me a greater appreciation for Kickstarter, which poses a solution to this funding issue: take your funding needs to the crowd. Let the crowd decide if the investment was worthwhile. Nothing is better than asking potential customers to invest in a company because they want to become customers. Kickstarter is a great model, but it doesn’t work for everything, mainly just a few things like gadgets and consumer products. Kickstarter had created very clear guidelines, rejecting most companies from raising money on their service, so it wasn’t a fit for the majority of businesses in need of capital.

As I heard from the entrepreneurs in the StartEngine program how hard it was for them to raise capital, I began researching and looking for solutions to this funding problem. Indeed, I felt personally responsible for solving the problem. But how can it be solved?

The very first version of the StartEngine website

In April 2012, I found the glimmer of what that answer might be. I read an article on the new JOBS Act, or Jumpstart Our Business Act. It was signed by Obama and for the first time in 80 years allowed companies to raise capital online from anyone through the sale of securities (stock, debt, etc). Suddenly, the door created by Kickstarter looked like it could become an option for companies that did not have consumer-facing products. Crowdfunding on a new scale.

I thought to myself this could be humongous. It could transform finance as we know it, but I also knew it would be some time before the JOBS Act would be implemented. So I waited. I continued to do my research and grew the accelerator in the interim.

The decision to pivot

Ron Miller

Around this time, I met Ron Miller, a serial entrepreneur and master salesman, and we quickly hit it off as friends. He was interested in joining the accelerator, so I brought him on as a mentor. I also hired Johanna Cronin to manage the accelerator.

As the accelerator grew, I continued to do my homework and read about the JOBS Act and the concept of investors buying shares online with a credit card. Others entered the space and began crowdfunding businesses using Title II of the JOBS Act, which was the first part of the JOBS Act to be implemented. But Title II wasn’t interesting to me as it only allowed companies to raise capital from accredited investors. My gut told me that this wasn’t the answer.

Johanna Cronin

In many ways Title II is just a continuation of the way funding has been done, only updated to an online format. I saw the potential for the JOBS Act as something much greater, a potentially revolutionizing force if the cards played out right.

To focus on accredited investors felt like a mistake: the way deals are structured, the way the investment platform would be presented, would all be different than if they were designed for the consumer. By the time the consumer could participate, we would have no credibility. We would be a part of the same biased institution that we wanted to reshape.

So we waited and continued work at the accelerator. I had no intention of stopping before I reached my goal of 60, which eventually I did, over the course of two and a half years.

In November 2013, the SEC released a draft of Regulation Crowdfunding, which I found fascinating. I had a hunch that this was going to be a monster. Once I reached my goal of investing in 60 companies, the conversation between Ron and I became one of do we do another cohort of startups in the accelerator or should we pivot our business to equity crowdfunding? Can we do both?

An early version of the StartEngine website, circa summer 2014

In the spring of 2014, it became clear that equity crowdfunding was the bigger opportunity and that running both the accelerator and developing this crowdfunding simultaneously wasn’t feasible, so we pivoted our business. Ron, who initially became the CEO for the first two years and is now the Chairman of the Board, Johanna, who is now our Director of Product, Marketing, and Services, and myself, the CEO.

Landing our first client

The second rendition of the StartEngine logo

We needed a name, and we needed a logo. The name StartEngine had some notoriety in LA already, which would be useful in the new endeavor. Accelerator programs are focused on raising capital for businesses anyway, so I figured if the name worked for an accelerator, then it would work for an equity crowdfunding platform.

We built a prototype of the platform, keeping the name and logo of StartEngine, and then it became a waiting game until the JOBS Act was implemented. In the meantime, I continued mentoring the companies that had gone through the accelerator.

We needed money to run StartEngine, but it felt disingenuous to go to institutional investors. If we wanted to revolutionize finance, what kind of message does it send to our potential clients if we take money from the very institutions, the VCs, the banks, that we believe our platform lets entrepreneurs do without?

So instead, we put our own money into the company and raised from friends who shared the same belief that finance needed to be disrupted in a big way to help tens of thousands of frustrated entrepreneurs get the capital they need to succeed. Then everything changed on the morning of March 23, 2015. We got a phone call the night before that the SEC would be voting on Regulation A+ in the JOBS Act. We hadn’t seen a draft or anything of Regulation A+ yet, so this was a surprise. The commissioners voted that morning, and it passed unanimously. The date was set for Regulation A+ to go live: June 2015.

We had 60 days to find a client and build the software. We used Colab to build the software as we didn’t have an in-house development team yet, and we began the search for business. It was tough going. The market didn’t know what equity crowdfunding was.

Eventually, we got connected to a car company by the name of Elio Motors via Darren Marble, a local entrepreneur who shared an interest in the crowdfunding space and was building his own marketing platform in LA. Darren introduced us, knowing that it would be a good match.

Ron, Johanna, and I by an Elio car

We met with Paul Elio, the CEO of his namesake, on June 1st, signed him the next week, and the offering for Elio Motors, the highly efficient, light-weight car company, went into a public test the waters page on June 19, 2015. Within hours we had millions of dollars in reservations, most of which came from the Elio Motors community. These reservations were not commitments and just levels of interest in investing into the company before the offering is qualified by the SEC.

A screenshot of the Elio Motors page, a few days after launch

It was a smooth and painless process for our first time launching a company. When Elio finally went live that November, they raised $16.9M from over 6,600 investors. It was the first Regulation A+ offering ever, and it was a smashing success.

StartEngine, Accelerated

The current StartEngine logo

Elio didn’t quite spark the sales I thought it would, in large part because we had to educate the marketplace. I expected Elio’s success to trigger a catalyst. After the raise, I thought America would wake up and think, “I need to do this too.” But reality is slower than that.

To be clear, I never doubted that StartEngine would work. I believed in it because we took a scattershot approach: throw pasta on the wall and see what sticks. Our business model targeted small businesses and consumers, huge segments of the audience. The market was simply too big for StartEngine not to work. The need for equity crowdfunding was there; we just had to educate the market to let it know the option was there in the first place.

Eventually, things accelerated. The real turning point came when Regulation Crowdfunding was implemented in May 2016. Regulation Crowdfunding was inexpensive and cost-effective. Even better, it was easy. It opened StartEngine to a wider number of companies. Our platform began to make more sense as a viable funding option for companies.

By the end of 2016, we did 10 launches. By the end of 2017, over 100. Halfway through 2018, we’ve already launched more companies than we did all of last year and nearly tripled our team.

The team, circa Spring 2017

It certainly helps our growth that our platform helps entrepreneurs get access to capital. When we needed funding, we raised $5M on our own platform from over 3,000 investors. The raise took over half a year and closed in June this year. We tell our clients that they should do equity crowdfunding, so why wouldn’t we put our business where our mouth is and raise from the crowd too? I truly believe it’s the better option, so that’s what we did. Guess what? It worked, so we are doing it again. Now we are testing the waters for a $10M ICO, meaning that investors can reserve their shares so that we can gauge investor interest while the offering is being qualified by the SEC.

Speaking of ICOs, some of our growth is luck. When I first began learning about ICOs last summer, I immediately recognized them for what they were: the crowdsale of securities, if done without compliance with federal law. It was a perfect storm as ICOs fit in perfectly with the JOBS Act and what we are doing at StartEngine. When the SEC echoed my beliefs publicly and issued subpoenas, it brought in new business.

No entrepreneur could anticipate that, and I certainly didn’t when I started the company. It can often be the serendipitous turn of the market that makes or break a company, and with the explosive popularity of ICOs, things worked out in our favor.

Though even with positive momentum, it’s naive to think that our business can continue to grow without liquidity. Investors need to be able to trade their assets in order for this funding strategy to truly scale and replace VCs. The average investor can’t, or won’t, wait 7 years to see a return on their investment. They need a shorter timeline, but that timeline is coming.

StartEngine itself and many other companies are working towards building secondary marketplaces where investors can trade securities. Once these marketplaces are established, they will be the key that unlocks the whole enterprise. More investors will be interested in participating due to the shorter time horizon, they will pay premium prices for that liquidity, and startups will raise more money as a result.

Not too far in the future, I believe that the best deals will come to crowdfunding first. The next Snapchat won’t raise from VCs, but from the crowd, because the founders have total control of their valuation and the terms. I plan for StartEngine to be there when that day comes.

Thanks for reading. If you’re interested in learning more about StartEngine, or investing in the platform, you can learn more here.

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